Filer Manufacturing has 7.7 million shares of common stock outstanding. The curr

Question

Filer Manufacturing has 7.7 million shares of common stock outstanding. The current share price is $47, and the book value per share is $5. Filer Manufacturing also has two bond issues outstanding. The first bond issue has a face value of $68.8 million and a coupon rate of 6.4 percent and sells for 108.9 percent of par. The second issue has a face value of $58.8 million and a coupon rate of 6.9 percent and sells for 107.7 percent of par. The first issue matures in 9 years, the second in 26 years. Suppose the company’s stock has a beta of 1.3. The risk-free rate is 2.5 percent, and the market risk premium is 6.4 percent. Assume that the overall cost of debt is the weighted average implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 40 percent. What is the company’s WACC?

Explanation / Answer

a) Market value of equity = price* number of shares = 7.7*47 = 361.9m

Market value of debt = (face value* price in terms of par)bond1 + (face* price in terms of par)bond2=( 68.8*108.9 + 58.8*107.7)/100= 138.2508m

Market value of firm = Market value of equity+Market value of debt

= 361.9+138.2508 = 500.1508

b)

Cost of equity = risk-free rate + beta * (market risk premium) = 2.5+1.3*6.4 = 10.82%

Cost of debt =

                    K =Nx2          
BOND PRICE= [(Semi-annual Coupon)/(1 + YTM1/2)^k]     +   Par value/(1 + YTM1/2)^(Nx2)
                   k=1

K= 9x2           
1089= [(6.4*1000/(100*2))/(1 + YTM1/200)^k]     +   1000/(1 + YTM1/200)^9x2
k=1

YTM1 = 5.157%

BOND PRICE= [(Semi-annual Coupon)/(1 + YTM/2)^k]     +   Par value/(1 + YTM/2)^(Nx2)
                   k=1

K= 26x2           
1077= [(6.9*1000/(100*2))/(1 + YTM2/200)^k]     +   1000/(1 + YTM2/200)^26x2
k=1

YTM2 = 6.2944%

Before tax cost of debt YTM = YTM1*(MV bond 1)/(MV bond 1+ MV bond 2) + YTM2*(MV bond 2)/(MV bond 1+ MV bond 2)

= 5.157*(68.8*1.089 )/( 68.8*1.089 + 58.8*1.077) + 6.2944(58.8*1.07)/( 68.8*1.089 + 58.8*1.077)

= 5.6592%

WACC =  wd(rd)(1 – T) + wc(rs) = 5.6592*(1-0.4)*138.2508/(500.1508)+10.82*361.9/(500.1508)

= 8.767 ~8.77%

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